EM Currencies Recover Losses, GBP Rallies on Data

A highly volatile week comes to its end with emerging market currencies broadly recovering the heavy losses recorded post-FOMC minutes released on Wednesday. As the emerging countries’ central banks jump into the game to support their tumbling currencies, the US 10-year treasury yields strengthens on Fed “tapering” expectations.

Released in the morning, the supportive GDP growth gave a fresh boost to GBP-bulls, while euro remained well bid against the US dollar. Ahead of us, the Canadian July consumer price index, Euro-zone consumer confidence in August and US July new home sales are the last data to watch before the trading week ends.

The emerging market currencies took a breather after being heavily squeezed over the week. INR went through five consecutive sessions of fresh historical lows, Turkish lira retreated to 1.9973 against the US dollar, and the Brazilian Real tumbled to its lowest level since March 2009.

While the emerging market central banks are worried about the future (especially with Fed walking through “tapering”), RBI announced its plan to buy long-term government bonds to ease the liquidity, Turkey Central Bank launched “additional tightening measures” (which consist in forcing the lenders to borrow at the overnight rate of 7.75% rather than the benchmark funding rate at 4.50% & over USD 350bn worth fx auctions on such days), while the Brazil central bank declared a large FX intervention program to give support to BRL.

Zoom in Brazil

Two years of unstable economic policy geared towards supporting decelerating growth and failed to provide the necessary stimulus. The government’s strange mixture of expansionary macroeconomic policies, loose credit, tax cuts and low interest rate triggered higher inflation rather than demand. Heavily impacted by the broad-based capital outflows from the emerging markets, the Brazilian Real depreciated over 25% against the US dollar since March 2013 and that, despite the three consecutive rate hikes in April, May and July (from 7.25% to 8.50% in total). Brazil authorities have let the price reach to top of the quasi-fixed exchange rate regime trading band in an attempt to curb inflation nearing the upper end of the target range. Now, BCB announces to offer derivatives and credit lines worth USD 3bn per week until the year end to counter the weakness in BRL.

On the other hand, the technical indicators give red alarm. The relative strength index is in the oversold region (above 70%) and the MACD 12-26 day indicator shows the largest divergence since October 2011. Despite the heavy sell pressures expected to further squeeze the emerging markets in the coming months, is it the right time to short USDMXN, or the central bank will remain powerless in its battle to support BRL against the global bearish momentum?

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